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12/08/2013

Minimum Wages, Employment, and Inequality-Becker

President Obama recently lamented the growth in inequality in the United States, and called, among other things, for an increase in the federal minimum wage from its present level of $7.25. The problem is that a much higher federal minimum would raise unemployment, and widen inequality among young persons with few skills.

Many factors contributed to the large growth in inequality since 1980. One is the large widening of the gap in earnings between more educated and skilled workers compared to less educated workers with few skills. I have written about this force several times (e.g., see my blog, “Contrived Inequality and Equality”, 2/11/13), and will concentrate here on the large decline in employment of younger workers.

A depressing statistic is that the fraction of healthy younger men who are not in school, not working, and not looking for work has risen at a rapid rate during the past 25 years. For example, about one third of black men and one eighth of white men in their mid 20s to early 30s were not working or looking for work even prior to the Great Recession. These percentages are considerably higher for younger men without much education or skills.

So many of these men are not in the labor force partly because real wages of unskilled males have fallen appreciably during the past 30 years. Many decide not to look for jobs with low pay. Also relevant (as stressed in studies by my colleague Derek Neal) is that many younger men, especially black men, are in prison, on parole, or on bail, and they either cannot work, or have trouble getting jobs. Others realize that they can do almost as well financially by not working through collecting food stamps, Medicaid if they get sick, unemployment compensation, and housing benefits.

The present federal minimum wage is not an important contributor to these high propensities to be of out of the labor force for men beyond their teens. However, an increase in the federal minimum to $10.10 an hour, as proposed in a bill by Senator Tom Harkin, and even more the increases of the minimum to $12 an hour and $15 an hour proposed by others, would greatly worsen the employment prospects of the already highly vulnerable group of younger men with limited education and skills.

Economists generally, although not universally, agree that high minimum wages reduces the employment of younger persons with little skills because that prices some of them out of the fast food and other competitive sectors that employ these individuals. Any reasonable model of competitive behavior implies that higher minimum wages induce firms to reduce their employment of low skilled workers. The magnitude of the effect on employment depends on the size of the increase in the minimum- an increase to over $10 an hour is a big increase- and how the new wage compares to average wages- $10 is about half the average wage in the American economy.

Valuable perspective comes from the French experience, for the French minimum wage of almost $13 an hour has been one of the highest in the developed world. It is no coincidence that the unemployment rate of French youth is over 25%, and it is said to be over 40% for young Moslem males. A study by Abowd, et al, “Minimum Wages and Employment in France and the United States”, 2009 shows that even before the financial crisis hit, the high French minimum wage was appreciably impacting the employment of young French men and women. They did not find much affect of the much lower American minimum on employment, although others have shown that even the relatively low American minimum wage prices some teenagers out of the labor market since they do not add enough value to employers.

The president advocated a higher minimum wage as a way to reduce inequality in earnings. It might reduce overall earnings inequality, particularly if the percentage reduction in employment of those workers affected by the new minimum was smaller than the percentage increase in their wage. However, the inequality in earnings among low skilled workers would increase, not decrease, since some of these workers would get much better pay, while others would be unable to find work at the higher minimum wages.

Minimum wages are usually popular because people count the effect on the earnings of those who then get higher pay, while they neglect the negative effect on the employment of other skilled workers. This is a particularly bad time to have a large increase in the American minimum wage since unemployment rates are still high, especially for younger workers, and many of them have given up looking for jobs. A large hike in the minimum would make economically vulnerable groups even more vulnerable.

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Another big factor in the high unemployment rate in France is due to the fact that the hiring and firing regulations there are extremely onerous. It's difficult for a french company to fire someone even if they clearly have grounds for termination, so many businesses are reluctant to hire.

If the minimum wage is $7.25, a worker employed at that rate is competing on two fronts: (a) can the employer get more than $7.25 in production from the worker, and (b) can the employer get anybody for that price whose production will be greater.

If the minimum wage goes to $9, a worker whose production value is $8 is no longer a feasible investment for an employer. However, in most jobs production value is such a nebulous calculation that employers don't even pretend they can pinpoint it, so they'll probably keep most of their unskilled people anyway on the theory that they are sort of necessary and there will still be an overall profit. I.e., there will be minimal disruption and loss of jobs.

However, if there is a big jump in the minimum wage to say $15, it becomes a little more obvious that even given the benefit of the gray area, these employees do not warrant the outlay. Second, and far more impactful, front (b) from above kicks in - suddenly a guy whose output is $8 is competing with people whose output is more than the $15 in wages they would legitimately command in the absence of government interference. The effect of such a law, as Professor Becker correctly forecasts, will be to greatly increase the number of workers tied for last place and calcify the chronically unemployable class, sending them the message that if your natural output doesn't exceed $15 an hour, don't even bother trying to participate in the market. (It will also force prices to rise.)

If it is society's problem that people need their earning power supplemented in order to subsist (and to that extent I agree that it is), then it is appropriate for society to provide that supplement, as we do. If we force employers to pay $15, they will hire the best person available for $15 instead of the best person available for $7.25, and society will end up entirely supporting the bottom segment instead of merely subsidizing them. Designers of government policies have been trying to corner the haves into paying for the have nots for decades if not centuries, and they always fail. People who spend their days trying to earn money are, as a class, far more knowledgeable about money than people who spend their days running governments. Governments cannot outfox them, and there is not the collective political will to sink to openly taking their wealth from them, as much as it would suit the current President and his ilk. Unless the plan allows money to flow to the people whose lives are spent seeking money, those people will adjust their behavior and the plan will fall short under the weight of its own unintended consequences.

> Economists generally, although not universally, agree that high minimum wages reduces the employment of younger persons with little skills because that prices some of them out of the fast food and other competitive sectors that employ these individuals. Any reasonable model of competitive behavior implies that higher minimum wages induce firms to reduce their employment of low skilled workers.

While I agree that models suggest this, there seems to be recent research (based on the US, not abroad, so more relevant than the cited French study) that suggests that a higher minimum wage (at least at current levels) has no negative employment impact. Slate's Yglesias summarizes some here: http://www.slate.com/blogs/moneybox/2013/02/13/minimum_wage_research_the_case_for_a_higher_minimum_wage.html.

I'm curious your thoughts on this research. Politically liberal economists seem to cite these studies a great deal, while politically conservative economists fall back to models. To me, the studies seem compelling in supporting a higher minimum wage, but I'd curious to see a contrarian view.

I think a combination of a hike with some exemptions might do as much good as harm, helping the populations that would most benefit from work experience. http://stevenjens.blogspot.com/2013/10/minimum-wage.html

I know that in Brazil, the wages of high-earning workers and even other market prices are established based on the minimum wage (which is a now equal to about $300 per month), with the result that raising the minimum greatly affects pricing in general and the average wage, reducing the wage compression typical in the USA. Is that good or bad?

Low wages is one of the driving forces of the offshoring phenomenon of recent years. A would be Employer always desires the lowest wage scale possible in order to maximise his margins (it's really all about profit and how to maximise it). In other words, creating the conditions of "wage slavery" is good for Business and as we all know, "The Business of America is Business". Regardless of it's cost. Human and otherwise.

Perhaps we'll see "Big Mac & Fries" production offshored to China and returned by slow boat from China. Yecch! I'd prefer to pay a buck two more for something hot and fresh...

The idea of a Basic Income Guarantee is running around the internet now. http://pointsandfigures.com/2013/12/15/basic-income-guarantee-capitalism-limits/ Would love to see you guys weigh in on a United States basic income guarantee.

Society must find a better way to divide labor and give more people a path to finding real and fulfilling work. The cost of inequality is taking a toll on our culture. Robots and new technology have streamlined production increased productivity and eliminated many jobs. Big business is good for big business but not necessarily for the masses. Consolidation often means a gain in efficiency, but this often comes at the cost of losing diversity and a "robustness" to both society and the economy. The benefits of efficiency sometimes have a huge hidden cost, in the 1993 movie Demolition Man, "everything is Taco Bell". How the fruits of labor are divided is important, this includes not just the wage deserved by a common laborer, but how much CEO's, those in management, and those that can't, or choose not to work, receive. While we have become far more efficient in producing goods, all people should in their lifetime contribute to the good of society and the economic pie. Below is the remainder of a post I wrote on how society must better divide the fruits of labor.

Becker says, "about one third of black men and one eighth of white men in their mid 20s to early 30s were not working or looking for work even prior to the Great Recession. These percentages are considerably higher for younger men without much education or skills. So many of these men are not in the labor force partly because real wages of unskilled males have fallen appreciably during the past 30 years. Many decide not to look for jobs with low pay."

A factor many people overlook is that society has layered government support program upon government support program. This means if you qualify for one program additional assistance may most likely be available. In this case people receiving help or aid often double or triple dip, a plethora of "additional help" options exist. From food stamps, free phones and internet, help paying for utilities, medicaid and medical assistance, Pell Grants, programs to pay for school books, and free lunch programs and others.It is not uncommon for someone on aid that has spent all the money they receive to approach a non profit or quasi-government agency and ask for "special assistance" and help till they get back on their feet. The post below delves deeper into why many people chose not to work.

Ha! To "some" it's NEVER the right time for a min wage hike. "Inflationary" in good times and "economy tanking" in the poor times.

As for "large increases" we should not have put ourselves in the position where a "large hike" is necessary if we are to pretend that the min wage comes at all close to providing the income necessary for the most minimal level of independent living.

Now IS the time! First it will provide some token amount of demand spurring "trickle down" in a DEMAND starved economy. Secondly profits are generally up and the overpaid CEO is hardly going to go down to the mail room to "save" two or three bucks an hour.

As for "other more skilled workers?" Those at or near min wage levels will, to some extent, have their own wages "pushed up" by the min wage closing in on them.

Becker seems to fall into the trap of assuming a static model. First if in today's economy an employee can't generate $56 worth of added value, it's likely the job is not worth doing and is a waste of time to the employee. WHAT is the guy, and they are NOT all "teens living at home" going to do with $50? "Go shopping?"

Some of those working for "$7.25" may return to their countries of origin, while others "displaced" by the $11 or $15 worker may then decide on a return to school or learning a trade.

Truth is America made most of its gains when we had a higher min wage and a far less steep GINI (inequality of wage) index. One can see why. With the employer seeing higher wage costs he's that much more likely to invest in productivity increasing machinery, computers and streamlined methods. It's that increase in productivity that has created the wealth, that ha! we see the one percenters spending or not spending.

Dan Chai: My belief is that moderate increases in the min wage have little to no effect on "job loss" for a number of reasons.

First is the businesses of those paying some of their employees a min wage would be affected similarly by the rise. Thus, no loss of competitive edge. So what about substitution? Say, that a ten percent increase in fast food worker's pay added 3% to the cost of the offerings? (3% because there are many other cost factors including the food, rent, utilities and manager or owner's pay/profit that goes into the price of the product.) Would a $3 meal that was raised to $3.10 be shunned in favor of returning to carrying a lunchbox or brown bag?

Then there is the "productivity" argument. Some seem to believe they can accurately depict productivity at the low wage end, but, somehow, CEO increases of 400% or more are then claimed to be "market driven" with the implication of far more genius and productivity than when CEO's were paid a small fraction of their current gleanings.

So, "we're sure" that the guy on the drive up window at a fast food stop grossing a million or more a year is "worth" $58 (at 7.25) but that a 10% increase to $63.80 renders the biz plan unworkable? If the store gets rid of him/her? then what? Do less biz? The owner's wife or kid does it for the old $58 rate?

I recall working for a medium sized company as a fairly well paid, partly commish, sales guy. Across the aisle we had "temps" working as receptionists because their low pay was considered "burden" not authorized by budget restrictions. Ha! when prospective customers called in for one or another of we "highly productive" sales force guys, guess who they talked to first? And what a diff it made when one stuck around long enough to learn something of the job, products and who was responsible for what and perhaps had a talent for putting the customer at ease.

It seems we've lost the concept that things get done as a team. Who wins a baseball game? Pitcher? Catcher? Base hitter? Slugger? Who won WWII? Generals? Sargents? Millions of low ranking grunts doing what they were told? Would the quality of Generals rise dramatically were they paid in the 10's of millions like private sector CEO's? And ha! would the same be true for the sargents? and low paid privates?

For whatever cause wage inequality has gotten all out of reason. As a much richer nation than we were when the min wage topped $11 (1968) and the pay scale was much flatter, we'd all be doing much better were we to have maintained the wage ratios of that era.

The additional demand from those having a buck to spend would create a faster turnaround of money with more goods sold, and more hired to produce or distribute the goods, and ha! finally that which made us great in the past: Creative managers trying to contain labor costs with labor saving technology and spawning whole new, generally higher paying industries.

Terry, Yep! We made a big mistake in allowing our min wage to fall so far behind. You're exactly right; were the min wage to be a steady increase reflecting both inflation and our dramatic gains in productivity, things would all work out for the better.

As you point out in companies where min wage workers are few, they'd likely just absorb the small annual increments. There would be others who may well decide to buy a back hoe instead of maintaining 100 ditch diggers. But, done gradually some of the former ditch diggers would learn to operate and maintain the back hoe while others would take jobs building or selling backhoes. Productivity, that great and only producer of wealth would rise.

Jim K. If I understand your Brazil model being that of increasing most wages as a function of the min wage, it would not seem a good idea.

First it's far too rigid and smacks much too much of central planing.

The reasons most advanced nations have a min wage is that of lower skilled workers having no market power to set their wages. Also, there is a cost to society when a min wage falls too far below paying for the most basic std of living. Who fills the gap? Who covers their medical costs? If ten live in a house meant for three, the prop taxes are not going to come close to paying for local services like education, police and fire departments.

Raising the min wage does tend to push up other low wages to some extent. But higher up on the income scale a functioning capitalism does need to differentiate the more skilled from the lesser skilled. Falling wages for buggy whip makers and increasing wages for I-phone designers help to direct labor to its highest and best use.

This all worked in our fair nation at one time, but today the vexing question is why working folks continue to suffer from long stagnant wages while CEO and other upper management wages continue to soar. Can anyone make the case that ALL of the productivity gains of the last half century came from the "one percenters?" where all the increases in wages accrued? I think not, not even in the case of Steve Jobs and far less so for some nameless CEO of one of the many H/C insurance outfits that haven't done much different for decades.

Points -- You may be surprised to know that a "guaranteed income" was bandied about and got serious consideration during the Nixon admin.

Ha! way back then, another time of economic strife, we likened our economy to a lifeboat with a max capacity of 9 but with 10 passengers. Someone is to spend time in the ocean, ie out of a job.

As our economy will not function with 100% employment, are those 5% to 10% who are unemployed lazy laggards? or soldiers in the "war" against inflation in general and rising wages in particular? Then, how should they be treated?

If, as I suspect, we have a structural unemployment problem in which unemployment above 6% or so is the new norm, along with underemployment of another 6%, how are we to handle it?

In my younger years of reading a lot of sci-fi there were many stories of most of what we needed or wanted being produced robotically. Those stories always assumed far more leisure time with most of our wants fairly well satisfied. The trouble in our world is that ALL of those gains from robotics and productivity increases went to the "one percenters" with working folks working LONGER days and weeks just to survive.

But is something akin to a living wage w/o work a good idea? Some could greatly benefit. Say artists, musicians, writers, single parents with young kids to care for and others might make good use of the time. But mostly, it would seem not such a good idea. And truth is that while most of what we can afford to buy doesn't employ our entire workforce, not all of the work is being done.

We're short of those who'd care for our elderly or ailing and those who might care for our national parks and other infrastructure of the commons and many, many more jobs left undone than I can possibly know of. Soooo, a modern WPA? the government as employer of last or preferable resort? As in the response to the Depression, public works that would not have been considered a decade earlier? The arts were supported too, so grants of some certain length for those wanting to write? or beautify the landscaping of a park or city hall?

If we are to run this country with but 85% of its workforce being gainfully employed we are going to have to cross that bridge of "What do we do with the rest?" at some point.

On the other hand (economists have to have at least two and perhaps a spare hidden away?) IF our wage structure returned to the distribution curve of the 60's there would be FAR more demand for the goods and services we've long produced. IF.... we were to man up and address some $2 trillion of long delayed roads, bridges and other infrastructure maintenance, say at $300 billion/year that would directly sop up several million of unemployed of the hard hit construction sector with the multiplier effect, as those now employed spent their incomes another several million would find employers calling them back.

What will NOT work is a UK style austerity program (a complete bust there) or sticking our heads in an age-old hole and pretending the high numbers unemployed are "simply lazy" or that 15 million or more of our fellow citizens don't exist, or count.